Union of Grain Exporters head Eduard Zernin: Impossible to create true price indicators without developing exchange trade
The current agricultural year from July 2022 to June 2023 has turned into a special one for Russian grain exporters, and not just due to the record harvest in 2022, which boosted export potential. The situation was complicated by geopolitical events and as a result, strong demand for Russian grain on the world market has had various infrastructure-related restrictions to contend with, although agricultural produce is not officially sanctioned.
Ahead of the second Russian Grain Forum, Eduard Zernin, Chairman of the Management Board of the Union of Grain Exporters, told Interfax in an interview about how the difficulties have been overcome, how much grain might eventually be exported this year, and whether the market will undergo any changes due to the departure of the world's leading grain traders.
Q.: A year ago, at the first Russian Grain Forum, mention was made of so-called stealth sanctions against Russian exporters. Exports are not officially restricted, but the freezing of credit limits for buyers of Russian grain, refusals to provide trade finance and risk hedging instruments, as well as ships, and problems with cargo insurance and the like have seriously limited opportunities for grain traders. What is the Union's grain forecast for exports of grain, including wheat, in the current agricultural year? Have you estimated the extent of the export shortfall and what this could mean for the market?
A.: We prefer not to make forecasts, but to go by the facts. Current export volumes are breaking records. The consensus forecast by our forum participants is 58 million tonnes.
Based on the calculation of the current season's export potential of 60 million tonnes, we will fall about 2 million tonnes short. This is quite a large but non-critical volume in terms of pressure on the domestic market, which is already unprecedentedly high this season due to the record harvest.
Q.: The U.S. Department of Agriculture forecasts Russian wheat exports in the new agricultural year at 45.5 million tonnes. That is, Russia will remain the world wheat market leader.
A.: This is a rather optimistic forecast. We estimate our export potential at just over 50 million tonnes of grain, so wheat, our flagship export product, is at the upper bound.
Q.: Have all the export barriers caused by external pressure been overcome?
A.: Thanks to a blaze of publicity, we have managed to overcome the most acute phase of the hidden sanctions pressure, which allowed Russian grain to return to the world market. Hidden sanctions do not stand up to public scrutiny. Their initiators found it extremely uncomfortable to admit that, behind all the pomposity regarding world food security problems lay very specific actions that limited the supply of a fifth of the world's wheat supply to needy countries. And this is the very share of wheat originating in Russia.
We never expected public admissions, it was important for us to solve the problem itself. We are grateful to the Russian Agriculture Ministry and Foreign Ministry for their prompt intervention and organization of a discussion at the international level. Now the problem is largely solved.
If grain prices are seen as a risk indicator, then the global market no longer expects global supply disruptions. At the same time, we still experience problems with the financial aspect of our transactions, primarily with settlements for grain. This is part of a broader and entirely public problem of systemic sanctions pressure on the domestic financial sector.
We very much hope that our negotiators will be able to resolve the issue of creating a reliable financial bridge between grain exporters and countries in need, whether it is the lifting of sanctions against Russian Agricultural Bank, the creation of an alternative payment channel through Turkish state-owned banks, or any other long-term solution.
Q.: From time to time there is a discussion in the market about whether a grain export duty and quota is necessary with such a high export potential. On which side of the "barricades" does the Union stand? What, in your opinion, have almost two years of the "grain damper" shown?
A.: A record harvest is a phenomenon for a specific season, and export restrictions are a set of systemic measures.
The Union of Grain Exporters cannot be on any side of the "barricade", because the "barricade" itself is a figment of the imagination.
The overstocking by some grain producers is due to their own management mistakes, which we have warned them about repeatedly since the beginning of the season. The state should not be held responsible for these mistakes.
As for the grain market as such, it has transitioned from a phase of rapid growth, caused, among other things, by generous incentives from the state, to a phase of mature development, when state support is replaced by return on earlier investments in production and logistics infrastructure.
The state is now helping market participants more selectively, incentivizing their investment activity in priority areas. Otherwise, it wants to receive its share of the profits from earlier investments. In our case, it imposes a duty on the sale of surplus grain for export.
Q.: Serious steps have been taken recently to develop grain trade on the exchange, to establish price indicators. How have these mechanisms changed the grain market? What mechanisms are still needed to get exchange trade in full swing?
A.: As exchange trade has developed, the domestic grain market has become more transparent, that’s a fact. We make active use of the CPT index for wheat prices in deep water ports.
On the other hand, the development of exchange trade in grain debases the unique system of relationships between market participants that has emerged. Exchange trade is anonymous and does not take the history of relations between the parties into account.
So far, the market has not attained a balance and compromise, which is expressed in optimistic, but not record volumes of grain trading on the exchange.
Q.: What do you think this compromise should be? And what is the ideal percentage of exchange trade in the total volume of trade?
A.: At today's already mature stage of development of the grain market, it is extremely important to create your own price indicators and hedging tools for both domestic and foreign markets. We are talking, among other things, about the import substitution of foreign information products, which are often used for price manipulation.
It is almost impossible to create true price indicators without developing exchange trading. The exchange is a kind of guarantor of the relevance and transparency of pricing.
It’s hard to say what percentage of the harvest should go through the exchange, there are no universal guidelines here. Perhaps a quarter of the harvest would be enough. For this to happen, it would make sense for the state to include the project for the development of exchange trade in basic agricultural products, or agro-commodities, among priority agricultural development projects and to encourage this development by providing certain tax and customs benefits. I don’t think it would be burdensome for the state and do think it would be sufficient for market participants.
Q.: Some time ago, a proposal was made to start basing the export duty on grain on the CPT Novorossiysk exchange price index. What are the advantages of such a mechanism compared to the current one? At what stage is the discussion of this proposal? When might it be implemented?
A.: The advantage again lies in the transparency of the benchmark price formation. The current methodology for calculating the index is based on exporters' reports on over-the-counter transactions. This is a fairly accurate indicator, which at the same time makes allowances for a certain inertia, since we are talking about OTC transactions.
The transition to exchange prices will make calculating the benchmark index more efficient and will enable the launch of exchange hedging instruments for export duties. But this method also has a certain drawback, which the fixing of fobbing costs, which can actually change during a season.
The best option for the use of exchange prices to calculate the benchmark index might be the results of export exchange trade, but this has not yet been launched. We’ve just learned that the exchange plans to launch it towards the end of 2023. This means the methodology for calculating the index might not change until the 2024/2025 season.
Q.: How is the process of transferring grain exports to the ruble zone going? Is there any prospect of foreign companies buying Russian grain on the stock exchange?
A.: In terms of methodology, the Moscow Exchange is now ready for trading, just a few formalities remain.
At the same time, to launch trading effectively, it is necessary to resolve the issue of the ruble liquidity of our grain importers. The most obvious solution is to convert their currency into Russian rubles. But this would depend directly on both the restrictions on the conversion of national currencies in these countries, and on their liquidity on the Moscow Exchange currency market.
As for the conversion of unfriendly currencies, first of all we are talking about the U.S. dollar, and the opportunities of our partners are very limited. Many of the largest importers of Russian grain raise loans from international organizations for this purpose. There is no certainty they will agree on the allocation of funds for subsequent conversion into Russian rubles.
It might be more logical to provide them with loans in rubles to buy Russian agricultural products, but there are problems with this. Our financial authorities do not yet see such an opportunity, which means that the launch of fully-fledged export trading might be postponed indefinitely.
Q.: The issue of creating an export fleet was first raised at the Russian Union of Grain Exporters forum a year ago. What has been done since then? Are there any specific projects?
A.: Specialized large vessels are now being designed. The situation with small vessels is more dynamic; there are projects, vessels are already being built.
Our exporters are actively involved in the process of optimizing design solutions to make domestic shipbuilding products competitive compared to vessels from China. I believe we will see the first Russian vessels in two or three years.
In this situation, vessels needed for creating the fleet are now being purchased on the secondary market, or they are being ordered at the shipyards of friendly countries. I cannot disclose the details, given the ongoing risks of discriminatory pressure.
Q.: This year, major international grain traders have said they will refuse to export Russian grain from July. How might this affect exports from Russia?
A.: The situation is unlikely to change for the domestic market. The share of departing global players does not exceed 15%. Russian exporters - both private and state ones - outgrew their foreign colleagues in terms of the scale of their business a long time ago. We are more concerned about competitiveness in the global market. Questions may arise with this, given the anticipated high yields of our traditional competitors, primarily the EU countries.
Foreign exporters who have announced their exit from the Russian market are concluding their work for the current season within the quotas allocated to them. Such a balanced approach will make it possible to keep export rates at record levels, meeting the market's needs.
In parallel, they are negotiating with potential buyers. It seems to me that the most promising for them is to transfer local business to Russian management. Some companies have already talked about this possibility.
But I would not rule out sales to third-party investors, although even in this case new names should not be expected to crop up, since many non-specialized players just don’t understand the specifics and risks of grain trading, focusing more on the speculative value of assets than on keeping the operating business stable. And with it, problems that are obvious to market participants may arise.
Q.: Has the composition of Russian grain traders changed a lot over the past year? Will newcomers, who could still appear, manage to squeeze the leaders?
A.: We do not see fundamental changes in the players. Trading of physical grain is quite competitive and specific; it is based on long-term trusting relationships between market participants.
At the same time, as an emerging trend, the increasing export activity by large agricultural holdings could be mentioned. Some of them have achieved some success. However, we do not expect quick success stories here either, since the world market is also built on long-term trusting relationships that are built over the years. That is why we are skeptical about the prospects for completely new players who are not familiar with the realities of the market.
Q.: Given that exports are pivoting increasingly to the east, how do you assess the prospects for grain supplies to China?
A.: They are subdued, because restrictions are still in place in China. These are existing phytosanitary restrictions that nullify our export potential in this, at first glance, promising direction. The available export statistics - less than 600,000 tonnes of grain crops – show this clearly. Serious fine-tuning of the process at the political level is required.